Is Real Estate Crowdfunding a Good Investment?
That is a tough question. I always like to keep it simple in my analyses (I know enough about statistics to hurt myself). But seriously, as I have gotten older, I really have moved to the “back of the napkin” approach (in addition to the normal banging my head into a wall).
I have started to just compare REIT investment returns to everything else “real estate”.
At the original date of this article, the four crowdfunding platforms I was invested in (note that I only invested in first-lien real estate loans (debt) on crowdfunding platforms) returned the below.
- At the updated date of this article, I currently have no real estate crowdfunding investments and do not plan any in the future.
- I have also deleted RealtyShares from the calculation because they have gone out of business. There was an over 35% loss of capital from RealtyShares investments.
No Current Investments – Annual Earnings 6.6% – Cumulative Earnings – 12.4%
(13 total loans, 12 loans fully repaid, 1 loan “short pay” for a 12.8% capital loss)
The 12 loans fully repaid had an average 8.64% interest rate
No current investments – program closed
Patch of Land
No Current Investments – Total Return 7.69%
(5 total loans, all loans fully repaid)
The 5 loans fully repaid had an average 10.2% interest rate
Ladder Capital Corporation
Stock Symbol (LADR)
Current Yield 9.06%
Commercial Mortgage REIT Common Stock
CorEnergy Series A Preferred
Stock Symbol (CORR PRA)
Current Yield 9.78%
Energy Infrastructure REIT Preferred Stock
So if we slot this into a table based on yield, we get the following:
|Investment Name||Market||Description||Type||Capital Stack||Yield|
|CorEnergy||Publicly Traded||Infrastructure REIT||Preferred Stock||Hybrid Debt Equity||9.78%|
|Ladder Capital Corporation||Publicly Traded||Commercial Mortgage REIT (mREIT)||Common Stock||Equity||9.06%|
|Alphaflow||Crowdfunding Platform||Mortgage Loan Index||Private Loans||Debt||8.390%|
|Patch of Land||Crowdfunding Platform||Real Estate Mortgage Loans||Private Loans||Debt||7.690%|
|Realty Income||Publicly Traded||NNN Net Lease REIT||Common Stock||Equity||6.79%|
|Peerstreet||Crowdfunding Platform||Real Estate Mortgage Loans||Private Loans||Debt||6.600%|
Crowdfunding vs REIT Yield Comparison
From a yield standpoint, REITs appear to be the clear winner. The real estate-backed loan platforms had a higher initial interest rates on the notes, but the defaults drop their total returns due to having to carry non-performing notes for long periods (it can take 12 months or longer in certain areas of the country to foreclose on a property).
Also note, the Alphaflow portfolio’s duration was 1/3 or even smaller than the loans in the other three crowdfunded portfolios, which dropped the interest rate.
The top four are made up of 2 REIT investments and 2 Crowdfunded real estate loan platform. Of course I realize that some of the crowdfunding investments have a smaller amount of investments and may be “penalized” for defaults, but I want to keep this comparison simple and focus on what is actually happening in the portfolio.
It is important also to discuss the position in the “capital stack” of both the crowdfunded investments and the REITs in this example, as it affects investment safety.
The 3 REITs come from 2 different places on the capital stack (in descending order):
Preferred Stock (CORR Preferred Stock)
Common Stock (LADR and O Common Stock)
What does “capital stack” mean?
The “capital stack” is the legal placement of all the capital placed into a company and how it is secured (either backed by an asset or by equity investment, for example). The highest placed position in the capital stack gets paid first before any lower position in the case of bankruptcy. As you move higher in the capital stack, your investments are safer, as they are in an earlier or more primary payment position in the case of default.
The Real Estate Capital Stack
In the real estate world, first-lien mortgages are at the top of the capital stack. The lender can foreclose on the property if the mortgage is not paid. If there is money left over after paying the first lien mortgage note, then the remaining money is then passed down to the next position (maybe a second mortgage, for example) to pay off that debt. This process is repeated down the capital stack until the money runs out. The equity holder is at the bottom of the pile.
The whole point of investing in crowdfunded real estate loans is that the property is backed by real estate. You, as the investor, are acting as the “bank” and paying the crowdfunding platform to service the loan. You are safe only if the property can be foreclosed on and resold for more than the loan, plus all the legal and resale expenses. If you can’t sell the property for more than the value and the costs, you “take a haircut” (lose principal) as the investor. This is what occurred with the RealtyShares investments I made.
Although the above-crowdfunded loan portfolios had loans in default, I received some of my principal investment back due to the assets (the real estate) securing the investment.
Unfortunately, I got a “haircut.”
The Corporate Capital Stack
For the sake of simplicity, we will break the corporate stack down into 3 sections:
Also known as corporate bonds, these are in first position in the capital stack and get paid back first in the case of corporate bankruptcy. Similar to a first mortgage on a piece of real estate, interest payments are fixed.
Preferred stock is a hybrid of equity (common stock) and debt (bonds). They are below bonds in the capital stack, and also pay a fixed interest rate.
Common stock occupies the lowest position in the capital stack. Income is paid in the form of dividends and is set by the company, and can be CHANGED at the discretion of the company’s management.
I find it interesting that the one crowdfunding platform that mimics REIT returns also mimics REIT structure. The Alphaflow portfolio represents 166 real estate-backed loans. REITs spread out their investments across hundreds and even thousands (in the case of Realty Income) of different properties. This has the effect of diversifying the portfolio and protecting returns, which Alphaflow seems to have perfected in their case.
My issue with crowdfunding real estate loans (versus REIT investing) is the length of the investment duration and the illiquidity (you cannot get your money out) of the investment. In these debt deals, you don’t get your money until the loan is either repaid or the foreclosure and resale process is complete. In general, I want to be compensated at a much higher rate for the illiquidity of my investment.
My Alphaflow portfolio had a WAM (weighted average maturity) of 4.69 months; I was getting 8.39% and was well diversified. I felt comfortable comparing Alphaflow to a short-term asset-backed bond, and an 8.39% return is high income at the original writing of this article.
I know it sounds like I go back and forth on whether investing in real estate crowdfunding is “good” or not, but I think it depends on your particular situation.
I believe it is important to diversify across asset classes and capital stack. I invest heavily in real estate businesses, and I want the income streams from these real estate businesses to be diversified across:
- Direct Rents (properties I own and manage)
- REIT dividends (common stock REIT investments)
- REIT Interest payments (REIT preferred stock and bond interest payments)
- Direct Mortgage Notes (I hold the entire note)
I have moved the capital from crowdfunding platforms to higher “capital stack” REIT investments (preferred stocks and bonds) in my portfolio. I find the income stream more consistent and more protected with this approach.
Real estate crowdfunding is an option for investment and income lever when slotted into a specific position in your overall portfolio.
It is a different type of investment from a typical REIT. When approaching real estate investments, diversity and access to your funds are essential. Income (returns) typically gets smaller as the investment gets safer (as you progress higher in the capital stack).
Real estate-backed loans are safer (much safer than P2P loans) as they have an asset underlying the loan. If you watch the LTV ratio (loan-to-value ratio) and keep it 75% and below, you have a fair chance of recouping the majority of your principal in the case of a default.
As an individual investor, it is up to you to do your own research and make your own investment decisions.
I do not provide any form of investment advice. I am only reviewing tools, platforms, and other business ventures that I use and sharing my experiences with these platforms along the way. Although I have tried some crowdfunding platforms, I have found REIT investing and dividend investing to be a better fit for me.